I hear more and more about alternative credit data and the scoring models it drives. However, it’s always discussed as either an add-on to those legacy three-digit scoring models or a “second chance” workflow for would-be borrowers who didn’t make the first pass with a legacy three-digit scoring model.
Why is that? Alternative underwriting either works or it doesn’t – and it obviously does or I wouldn’t be writing this. And if it works so well that we can use it to underwrite loans that in the past we wouldn’t have touched with a 10-meter cattle prod, why do we even need those legacy three-digit scoring models at all? Isn’t that the true definition of credit democratization – everybody being evaluated the exact same way, based only on their own financial habits, real-time cashflow, and actual capacity to pay?
Super Prime Is Super Sublime
Part of the reason we hold onto legacy scoring is, of course, convenience. It’s familiar and arguably reliable. In other words, it belongs in the “because that’s the way we’ve always done it” filing cabinet. But there’s more to it than that.
Super prime is a marketer’s dream. You see that 850 credit score and you can shower that member with the best credit cards, the most lucrative rewards programs, the most favorable mortgage rates, and all kinds of free bennies that people who actually need some free bennies could never hope to enjoy. Super prime is the lender’s easy button. “You want how much? Of course you’re approved!”
To be clear, I’m not begrudging anything of the super primers out there. If you have an 850 credit score, you legitimately have achieved something notable, at least in terms of the rules laid out by the current financial services industry. That said, I wonder if at least a few super primers would feel cheated if credit scores went away and they no longer had that 850 badge to wear.
The Kenyan Conundrum
But suppose you had to start from scratch, with no legacy scoring behemoths to dictate your path. And what if you were operating in a country where the vast majority of consumers were thin file or no file. That’s where Kenya found itself in the mid-2000s when a few visionaries realized it was time for a major financial technology upgrade.
The whole story is quite interesting and inspiring, but I’ll leave that for another time. The key component here is the decision by SACCOs (savings and credit cooperative organizations, the local term for credit unions) and other financial providers to leverage alternative data for all loan underwriting. If you apply for a loan in Kenya, your SACCO will use AI to analyze things like your M-PESA transaction velocity, airtime purchases, and utility bill habits to underwrite the request.
And it’s all working quite well. Today, a SACCO member can apply for an emergency loan via a mobile app or USSD prompt and have funds deposited into their mobile wallet within seconds. That’s a standard feature, not a spiffy add-on.
Moving Forward, Getting Ahead
At this point, I feel like I need to pull you over in the corner and give you a good talking to about this “second chance” nonsense. Seriously, wtf? “I’m sorry. You didn’t qualify under the system we use for normal people, but if you want, we can run your application through our Second-Class Citizen underwriting program.” No. Just no.
Anyhow, it seems like every technology today comes with a “you’d better not fall behind” warning. You’d better not fall behind on AI. You’d better not fall behind on open banking. You’d better not fall behind on crypto or stablecoins. Does alternative data belong on this list? I think the answer is a resounding yes.
So what’s it going to be, folks? Are we going to push to keep our credit scores and noses up? Or are we going to return to our credit union roots, underwriting based on character and capacity? Alternative data gives us that opportunity.